Tech giant hurt by stronger U.S. dollar, hardware business
By Robert Mcmillan
For most of its 104-year history, International Business Machines Corp.’s lifeblood has been business hardware: cheese slicers and card punches in the early days, mainframe computers and microchips of late. As hardware sales have shrunk, though, the company has bet its future on software and services in the cloud—a strategy that has yet to bear fruit.
Hardware sales continued their slide in the first quarter as IBM exited the commodity server business and focused instead on its more profitable Unix and mainframe computers. IBM reported Monday that sales at its hardware group totaled $1.7 billion for the first quarter of 2015—down from $2.4 billion during the same period last year. Most of the drop came from IBM’s sale last year of its commodity server business to Lenovo Group Ltd.
Revenue dropped to $19.59 billion from $22.24 billion as a surging U.S. dollar compounded the impact of shrinking hardware sales. It was the company’s 12th straight quarter of year-on-year declines. Revenue was flat from a year earlier excluding currency changes and divested businesses.
IBM plans to spend $4 billion this year on software and services delivered in the cloud. Last year these nascent businesses accounted for $25 billion, or 27% of annual revenue. IBM hopes they will grow to $40 billion, or 40% of revenue by 2018.
Martin Schroeter, the company’s chief financial officer was optimistic during a conference call, saying the company’s “strategic imperatives” grew by more than 30% during the quarter. “I’d say we had a pretty strong start to the year,” he said on a conference call with reporters Monday. Investors agreed, buoying the stock price 3.4% in after-hours trading.
Although the quarter’s hardware sales numbers were low, they reflected a healthier server business, Mr. Schroeter said in an interview Monday. Discounting the revenue drop from the company’s commodity server exit and currency fluctuations, IBM’s hardware business grew 30% during the quarter, thanks to a refresh of its mainframe computer line, which doubled its sales. “What we have left now is the high-value stuff,” he said.
IBM will lose out on a small amount of operating-system revenue now that the company is out of the commodity server business, but Mr. Schroeter doesn’t expect the shift to have a big effect on software sales. It will, however, lower service margins. IBM is now effectively Lenovo’s subcontractor on this low-end server business, “so we have a bit of margin compression,” he said.
With many of the fastest-growing tech businesses either shifting their data-center operations to cloud providers or purchasing low-cost servers from upstart rivals such Quanta Inc. and Wistron Corp., IBM is scrambling to reinvent itself, much as it did in the 1990s, when it began to emphasize software and services. It sold off its PC business a decade ago, unloaded its commodity server business, and agreed last fall to pay Globalfoundries Inc. $1.5 billion to take over its semiconductor-manufacturing business. That deal is expected to close by year’s end.
Today, the company is reorganizing itself around cloud computing, the internet of things, and business analytics largely under its Watson brand. In recent months, IBM has announced ambitious partnerships with Apple Inc.,Twitter Inc., and The Weather Channel. This month, the company introduced a partnership with Johnson & Johnson, Medtronic PLC, and several hospitals to pool and distribute healthcare data and analysis. It is too early to say how these initiatives will affect IBM’s bottom line.
“I think it’s a step in the right direction,” said Daniel Ives, an analyst with FBR & Co. “We continue to see a modest IT spending environment, but companies like IBM, Microsoft, as well as Cisco are continuing to search for innovative ways to get to the cloud.”
Corporate buyers are “moving away from traditional services and traditional hardware toward some of these next generation areas of spending, and that’s a headway for some of these traditional stalwarts such as IBM,” Mr. Ives said.
Overall, IBM reported a profit of $2.33 billion, down from $2.38 billion a year earlier. On a per-share basis, earnings rose to $2.35 from $2.29 on fewer shares outstanding. Excluding certain costs and discontinued operations, IBM’s per-share earnings rose to $2.91 from $2.68 and profit was $2.9 billion, compared with $2.8 billion in the year-ago quarter.